Solving the Two Person Practice Buy-Out Dilemma

Background
One of the most difficult situations an advisor can encounter is devising a plan for one physician (or dentist) of a two-physician practice to buy-out the other. Generally speaking, if both physicians are busy, the continuing physician (or survivor) will be unable to absorb the workload of the retiree. This in turn leads to a circumstance in which the survivor is confronted with working long additional hours for no additional, and perhaps less, pay, trying to generate the cash to fund the buy-out.

Origin of the problem
The problem is typically encountered either 1) when a sole proprietor is negotiating to bring in a new partner or 2) at or near retirement of one partner. In the latter circumstance, there may be a buy-out agreement in place with or without a formula or requirement of appraisal, or there may be no prior agreement.

New partner
Buying into a practice is complicated. There is often a dispute between buyer and seller as to whether or not any saleable goodwill exists. Most small practices do, in fact, have some intangible value that is not attributable to the personal goodwill of the physicians, such as the value of a trained workforce. In fact, the following is a list of practice intangibles commonly present in a small practice, representing a list of tasks necessary to establish a practice:

1. Conduct a feasibility analysis
2. Retain advisors
3. Prepare a business plan
4. Obtain financing
5. Identify a location
6. Negotiate the lease
7. Choose and order furniture, equipment, billing system
8. Hire employees
9. Develop employment policies
10. Develop a filing system
11. Develop marketing materials
12. Advertise for patients
13. Develop coding and compliance policies
14. Develop an encounter form
15. Develop a general ledger system
16. Develop a compensation system in a group practice
17. Establish professional relationships
18. Recruit patients
19. Prepare patient charts
20. Register patients in the billing system (data base)

In some circumstances, the advisor can move the transaction along by de-emphasizing personal goodwill - which physicians are loath to pay for - and emphasizing the presence of practice intangibles. The use of the term "goodwill" should, in fact, be avoided.

Example
Dr. Smith has been working in Dr. Jones' ophthalmology practice for three years. He is paid 35% of his collections, and the practice has an overhead of about 50%, leaving Dr. Jones with a 15% profit. Dr. Smith is 41 years old, and Dr. Jones is 55 years old. If Dr. Smith does not buy into the practice, he plans on leaving and starting his own practice.

Dr. Jones has offered Dr. Smith an opportunity to buy an equal interest in the practice. After the elimination of various "senior doctor rights" that Dr. Jones wished to retain but which would have made Dr. Smith's "50%" share worth substantially less than 50%, the parties agree on a price to be paid over three years. Dr. Jones also wishes to come to an agreement on the amount he will be paid at retirement. When the buy-in is completed he will be 58. He is reluctant to commit to waiting until age 65 to retire, and may want to retire at age 62. In contrast, Dr. Smith is reluctant to finish his buy-in and have only 4 years of "full" earnings before he has to start working to pay Dr. Jones again. In addition, Dr. Smith does not see how he could possibly carry the workload of both physicians, even if he was inclined to do so - which he is not.

Analysis

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